Lights Out: Lessons from The Blackout

Investigators probing the Aug. 14 blackout that thawed freezers, disabled air conditioners and paralyzed transportation for millions in the Northeast and Midwest states of the U.S. and Canada are weeks away from identifying the causes. But rather than waiting for the results, politicians and pundits of all stripes have seized on the incident to promote agendas they had staked out long before the lights went out.

It illustrates the failure of electric deregulation, said some. It’s proof of the need for oil drilling in the Alaska National Wildlife Reserve, said others. The Cato Institute called for the end of price regulation of the grid. Former Energy Secretary Bill Richardson cited it as evidence of the U.S.’s “third world” grid, a statement that – despite its monumental hyperbole – was widely quoted in the days after the blackout.

“When the lights go out in New York, it can’t help but be political,” observes Wharton management professor Witold Henisz.

“A bunch of clowns are taking starring roles in the national misunderstanding that is underway here,” says John Hanger, a former Pennsylvania Public Utility Commissioner, who helped craft the state’s deregulation plan. “The ideologues of the left and the right, as usual, are up to their ax-grinding games and their responses are equally nonsensical.”

Like the California power crisis and the Enron scandal, the blackout was another blow to state and federal efforts to introduce competition to the power industry. It will likely result in mandatory reliability standards and, perhaps, an increase in spending on the nation’s electric infrastructure.

But while the investigation may spark important reforms, one fact has been largely ignored amid the clamor: The electric grid was never designed to be fail proof. Rather it is designed to be run 99.9% of the time. That works out to one failure every 10 years, which makes the blackout of 2003, while dramatic, also completely predictable.

New York’s last blackout was 1977. For other portions of the Northeast it was 1965. The West suffered a blackout in 1996. “There’s nothing to indicate the reliability standard is not being met,” Hanger says. “There’s nothing that has occurred so far to indicate we’re experiencing outages at a rate higher than that.”

What happened Aug. 14? With high temperatures and company FirstEnergy’s 750 MW Davis-Bessie nuclear plant down for maintenance, the Midwest’s grid was being tested. About noon, FirstEnergy would report later, it began seeing unusual swings in frequency, voltage and load. About 2 p.m., a 550 MW FirstEnergy generator in Northern Ohio went offline,followed an hour later by the failure of a transmission line feeding the city of Cleveland.

Over the next hour, three other lines in northern Ohio failed and voltage – the equivalent of water pressure in a fire hose – dropped in the Cleveland region.

Shortly after 4 p.m. three more transmission lines feeding Northern Ohio failed and flows between Ohio and Michigan reversed dramatically: Ohio was no longer exporting to Michigan but drawing 2200 MW from it. Michigan saw its voltage drop, even as its connections with Canada switched from exporting to importing power.

As the voltage collapsed in Michigan, two power plants automatically shut down. Thirty transmission lines in Michigan disconnected in less than eight seconds, operating as designed. FirstEnergy continued pulling power through Michigan, but now the only route for the power to flow was counterclockwise, from southern Ohio, through Pennsylvania, New York, Ontario and Michigan. Flows over the Michigan-Ontario international connection jumped to nearly 2800 MW.

By 4:11 p.m., more than a dozen more plants had shut down and the lights were out in a broad swath including Detroit, New York, Toronto and Ottawa.

Economists estimated the blackout cost at $4 billion to $6 billion, much of it deferred retail spending that will be recovered later. While this is a blip in the U.S.’s $11 trillion economy, the blackout hit some hard. The ailing airline industry lost an estimated $10 million to $20 million due to grounded flights, about what it would suffer from a mid-January blizzard.

New York’s 22,000 restaurants lost $75 million to $100 million in wasted food and lost business. New York City estimated $40 million in lost tax revenue and $10 million in overtime pay for city workers. Auto plants in Michigan were idle for several days.

Modernizing the Grid

The Bush administration seized on the blackout to renew calls, first made more than two years ago by Vice President Dick Cheney’s controversial energy task force, for more spending on transmission and federal eminent domain authority to overcome siting obstacles.

While energy demand has doubled in the past 25 years, investment in high-voltage transmission lines has fallen by 45%, according to the Edison Electric Institute, an industry lobbying group. The Energy Department predicts the nation’s high-voltage electric network will increase only 6% in the next decade, while electricity use and production will jump 20%. In the wake of the blackout, Energy Secretary Spencer Abraham says it will cost $50 billion to modernize the nation’s grid.

Experts say utility spending on transmission and distribution systems has declined in part because utilities facing new competition from “merchant” generators don’t want to make it easier for their rivals to deliver power to their customers. In addition, many utilities face retail rate caps under state deregulation transition plans or have sought higher rates of return by investing in unregulated ventures from telecommunications to appliance repair services. [Transmission lines, the equivalent of interstate highways, carry power at high voltage over long distances; distribution lines deliver power at lower voltage to consumers.]

Between 1992 and 2001, American Electric Power Co., one of the companies whose failed transmission lines may have contributed to the blackout, spent $88.5 million less on maintaining its existing power-delivery system than it had told the Ohio Public Utilities Commission it needed. A PUC report earlier this year criticized AEP for sometimes waiting to trim trees until they had caused power failures. An AEP spokesman defended the company’s spending as adequate but acknowledged that Ohio’s deregulation law “does encourage us to look for efficiencies.”

Regulatory uncertainty also has played a role. The Federal Energy Regulatory Commission has been trying for years to encourage wholesale power trading by facilitating real-time markets and cajoling utilities to turn operation of their lines to independent system operators (ISOs). But the plan has stalled in the face of opposition from utilities and officials in the Southeast and Pacific Northwest.

“To the extent that it’s not clear who’s going to earn the returns on transmission, you’re going to have underinvestment and I wouldn’t be surprised if that contributed to the blackout,” says Henisz, co-author of a 1999 study on “Political Risk and Infrastructure Investment.”

Paul R. Kleindorfer, co-director of Wharton’s Risk Management and DecisionProcessesCenter, who has studied deregulation in the U.S. and overseas, says the U.S. should consider the “Transco” model of the National Grid Transco in Britain.

National Grid’s earnings depend both on a regulated rate of return on the capital it has invested in the transmission system and on its performance operating it. The company is penalized if it fails to maintain voltage and frequency within contracted bandwidths. It also has incentives to reduce congestion and maximize “merit-order” dispatch – that is, ensuring that increases in load are served by the least-costly generation available.

In the U.S., Kleindorfer says, “the investment decisions don’t have a clear line of sight to an ownership and governance structure with clear economic incentives.”

Leonard S. Hyman, a financial analyst and economist with consultant R.J. Rudden Associates, says FERC’s “stingy” rates of return on transmission spending also have hampered investment. But while Hyman believes utilities are spending less than they should on their transmission and distribution systems, he admits, “I have no idea whether a more modern grid would have prevented the problem.”

“We could reduce the probability of outages; we can’t eliminate them,” adds Hanger. “We could design the system to fail only one day in 20 or 100 years. But if we’re going to do that, we’re going to have to be prepared to pay more for electricity.”

While there is wide support among policymakers for targeted transmission investments to relieve congestion, Hanger and others say the country does not need 30,000 miles of new transmission lines, as some contend.

In parts of the Midwest, Northern California and New England, high-voltage cables are overloaded as much as 80% of the time, according to the Energy Department. But in most of the U.S. the system operates at 50-60% of total generation and transmission capacity on a typical day. There are 100 hours per year when it is stressed close to its limits.

“Do we want to double the size of the system or build in more redundancy so that 100 hours falls to perhaps 25 hours?” Hanger asks.

Some have called for the building of a “smart grid” based on computer chips, sensors and real-time communication to diagnose problems in the grid and quickly quarantine them. The American electric grid now relies largely on electromechanical devices.

“Every major industry has been transformed by digital electronics – except for the electricity-transmission industry,” T.J. Glauthier, a former deputy secretary of energy in the Clinton administration told The Washington Post. “We are still working with 1950s technologies.”

“Superconducting” cable, nitrogen-cooled lines that carry 25 times as much electricity as traditional copper wire, has shown promise but the cost of replacing existing wiring nationwide could be prohibitive. Other alternatives include siting generation closer to load – including “distributed generation,” mini power plants that can serve individual neighborhoods or factories – to reduce the strain on the transmission system.

Also largely untapped is “demand response” to shave peak demands. Electricity prices can jump from less than $30 to more than $500 per MWH in a single day. Some “interruptible” industrial customers pay lower prices in return for agreeing to have their power supplies cut if demand is high. But residential consumers have no incentives for cutting back, nor penalties for consuming.

“If we could have up to 10% of the retail load moving in response to price you would greatly reduce the problem of blackouts,” says Hanger. “That may very well be the lowest cost option here.”

Increased efficiency standards for air conditioners and other appliances would also help. But the Bush administration has not pursued new efficiency standards for appliances and blocked one for air conditioners that could have saved 14,000 megawatts.

Regulated Rates vs. Competition

One apparent winner in the wake of the blackout is the North American Electric Reliability Council (NERC) which has been calling for statutory authority to enforce its now-voluntary standards. Mandatory standards language was included in the comprehensive energy bills passed by the House and Senate earlier this year and appears likely to emerge from a conference committee that will be appointed in September to rectify differences in the two bills.

Bush wants the conference committee legislation to include his controversial plan to open the Arctic National Wildlife Refuge to oil drilling. But Congressional opponents may force the president to drop the provision to pass an energy bill.

Nor will the president have an easy time overcoming opponents who view federal eminent domain powers as a usurpation of states’ rights. (FERC currently has authority to condemn property only for natural gas pipelines.)

FERC’s efforts to promote electric competition appear to have lost ground. Rates for transmission and distribution – the “wires” of the system – remain as regulated as ever. It is only generation that has been opened to competition in some regions, and there is no evidence that generation contributed to the failures of Aug. 14. Nevertheless, deregulation critics – noting that all of the states hit by the blackout have initiated retail competition – have declared a cause and effect relationship between the two.

Hyman predicts Ontario will drop or delay its deregulation plans as a result of the blackout. The Bush administration, meanwhile, indicated it would accede to Southern and Western legislators seeking a three-year moratorium on FERC’s controversial Standard Market Design (SMD), which would set nationwide rules for wholesale markets similar to those run in deregulated states.

Twenty-four states and the District of Columbia have opened their retail electric markets to some level of retail competition. Between 1995 and July 2002, according to the General Accounting Office, generating capacity in the U.S. increased by 23%, most of it built by nonutilities. Between 1990 and 2001, the average inflation-adjusted retail price for electricity fell by 13% for residential customers and by 25% for industrial customers.

But the GAO noted in a December 2002 report that it has been difficult to measure the benefits of restructuring. “While consumer prices have generally fallen since restructuring began – and more so in states that are restructuring than in nonrestructured states – the falling prices continue a trend that began prior to restructuring, making it difficult to determine the precise role restructuring has played in causing the price reductions,” the agency concluded.

In addition to hurting SMD, the blackout also raised questions about FERC’s call for utilities to turn operational authority over their transmission system to independent system operators (ISOs). Critics note that neither the Midwest ISO (MISO), whose members include FirstEnergy, nor the New York ISO was able to contain the blackout. The Kentucky Public Utility Commission says it is considering ordering its utilities to withdraw from MISO.

But ISO supporters note that while MISO oversees some aspects of transmission, operational control of the grid remains with its 23 member utilities. In contrast, the PJM Interconnection, which runs the grid for all or parts of New Jersey, Pennsylvania, Delaware, Maryland, Ohio, Virginia, West Virginia and Washington, D.C., was able to contain the blackout.

Control areas far from FirstEnergy got almost no warning of the oncoming storm.

“I’m pretty sure when they identify the cause, part of the problem will be a breakdown in communication among multiple control areas,” says Hanger. “There’s no greater recipe for more events like Aug. 14 than a balkanized grid and splintered authority over the grid. If it happened in PJM, it would have been identified quickly. It would have been dealt with effectively.”

“When you’ve got something that moves as fast as electricity,” agrees FERC Chairman Patrick H. Wood III, “you’ve got to have communication that similarly moves fast and not rely on a telephone call.”

For now, it’s a safe bet that there will be increased emphasis on transmission spending, regardless of what role, if any, underinvestment played in causing the blackout.

The government and the private sector typically find it hard to raise capital for investment in transmission, says Henisz. “You tend to see waves of investment in response to crises and then neglect for a decade or two.”

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